Kames' $50bn bond boss: my yield curve taper trades

Kames head of fixed income David Roberts has upped conviction in the core trade he believes will benefit as the US Federal Reserve tightens rates, going short US five-year Treasuries versus 30-year.

He pointed to a historical pattern of the US five year Treasuries giving up around 200 basis points (bps) through periods of policy tightening, while the 30-year tightens on downgraded expectations of future growth.

Roberts has doubled down on his conviction in yield curve flattening since incoming Fed chair Janet Yellen surprised many investors with her hawkishness on the future path of rates in March. Her truncated schedule for a first increase in rates, now scheduled for the second quarter of 2015, has already knocked the US five-year Treasuries.

Pivotal moment

‘I think we will look back on that meeting, and the press conference that followed, as a pivotal moment,’ Roberts said. ‘The difference [between short and long duration] is huge in yield terms, around 1.7% versus 3.7%.

‘When you have that massive spread, curve tightening is going to deliver around 10% in capital loss at the short end while you continue to clip the coupons at the long end. We already have [Federal Open Monetary Committee] members saying rates should be at 4% within the next few years.’

He pointed out the Fed seemed to be more aware of the downside of continued liquidity than the upside, as a series of asset classes continued to hover around record highs.

Recent Fed commentary has highlighted the exit from the last easing cycle, when rates rose throughout 2004 to 2006, as the period when bubbles started to appear across the economy.

Roberts said this was less of a worry now, given the relative clear-out of leveraged capital, but there was little room for manoeuvre in razor-thin credit spreads and sovereign losses at maturity.

‘There remains a lot of danger in fixed income beta – rates are almost certain to rise over 12 months and high yield remains at all-time highs. But there are a lot of opportunities for alpha as well.’

He highlighted hard currency emerging market debt, which has almost erased the losses booked at the beginning of the year, as a useful example of both the dangers and opportunities.

‘Emerging debt, particularly local currency, is what I describe as great to buy but hard to sell. Everyone either wants to be in it or out of it, its either feast or famine,’ he said.

‘So when people are asking for their money back from strategy specific mandates and [managers] are having to sell what they can rather than what they would like to, we are able to pick that up. The same thing happens in investment grade funds: when high yield sells off, they will reach down and buy it on the margin.’

The Kames Strategic Bond fund has ventured back into emerging debt hard currency issues but is not aggressively mining for yield, buying Colombian-exposed oil extractor Pacific Rubiales on a yield of 6% and others at around 4.5%.

The fund continues to avoid local currency, however.

‘Am I surprised by how fast [emerging market debt] has come back? Yes and no,’ Roberts said. ‘In relative terms, all other asset classes remain near their highs, so a 10% sell-off in emerging market debt makes it comparatively attractive. It’s the equivalent of a 20% sell-off 20 years ago.’

Over the last five years, Roberts has returned 95.39% versus an average Strategic Bond sector manager return of 76.42%.

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